Did Deregulation Cause the Wall Street Crisis?

Anyone who tries to explain the Wall Street crisis in a single sound-bite is foolish…or worse. But House Democratic Leaders have found a culprit they can agree on: deregulation.

“This is the fruit of decades of ‘leave the market alone, don’t regulate it. It will take care of itself,” Says House Banking Committee Chairman Barney Frank. His solution? “Clearly we’ve got to get some regulation here.”

“The Bush Administration’s eight long years of failed deregulation policies” is the problem, declares House Speaker Nancy Pelosi.

“A stark failure of the economy and this administration’s laissez faire, take the referee off the field, let anyone do whatever they want to do and everything will be fine,” adds House Democratic Leader Steny Hoyer.

The problem with the Democrats’ “deregulation did it” meme is that it didn’t happen – deregulation that is.

The most significant financial regulatory action in the Bush Administration was Sarbanes-Oxley (Sarbox), a law significantly increasing regulation of the accounting and securities businesses. It spawned twenty – count-em – twenty new rulemakings at the Securities and Exchange Commission, and created a whole new regulatory organ, the Public Company Accounting Oversight Board (PCAOB).

If that is the “deregulation” House Leaders want to reverse, I’m with them. Describing what happened during the Bush Administration as “deregulation” just doesn’t square with the facts.

Bad choices by government have contributed to the current crisis, but calls to “get some regulation here,” neither illuminate those mistakes nor suggest what choices may be better.

PCAOB’s job is to prevent unexpected bankruptcies due to over-valued assets. Its chosen method was a welter a new accounting rules. Not only did the rules not work, some commentators have pointed to the PCAOB accounting rules as triggering the current crisis.

One result of Sarbox was for capital to flee to private equity funds, or to London, beyond reach of the new rules. This capital flight weakened American investment banks by shrinking their markets. And by the way, the three companies that have required rescue were all regulated by PCAOB. Less-regulated private equity funds seem to be doing just fine.

It is true that the 1999 repeal of the 1930s-era Glass-Steagal Act, requiring separation of commercial and investment banking, represented significant deregulation. But that repeal was signed by President Clinton, and implemented enthusiastically by his regulators. A good thing too, since that deregulation allowed Wall Street’s two remaining investment banks to avoid bailouts this week by transforming themselves into commercial banks.

So it seems some Bush-era regulation may have triggered the current crisis, and some Clinton-era deregulation provided an escape valve. Does this prove that more regulation is bad, and less is good? The wiser conclusion is that there seem to be good and bad ways to regulate.

Anyone who has paid attention over the last ten days has to conclude that financial regulation is a complex business. Treasury, the Fed, SEC, FDIC, and state insurance regulators all play a role. There are even international standards in play. Its an area not well suited to sound-bites.

It would be nice, once the immediate crisis is addressed, if Congress took a considered look at this regulatory contraption. Undoubtedly there are some parts that aren’t working well.

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Seems to me that a huge component of this financial meltdown was the negligence of the rating agencies, which stamped their AAA approval on collateralized securities whose collateral was of questionable worth. Without their willing conivance, none of these companies could have taken the positions they did. The "Masters of the Universe" made huge bonuses shuffling wads of worthless paper back and forth, slicing and dicing it twelve differant ways to make it look like it was worth something. In the end of the day, if you lend money to people who don't have the means to pay it back, and loan it against collataral that isn't worth the amount of the outstanding loan, you've made a bad loan. No matter how you package it, a deal like that isn't an asset. I don't know how much regulation was needed to see where this was going, but there certainly was no shortage of people pointing out that the loan practices of the last 10 years were increasingly lax. Teaser rates, no money down, you could see where this was going, and a Fed chairman or Treasury Secretary could have probably done some good simply by publicly asking some questions.

Involving PCAOB and Sarbanes-Oxley in the current financial mess is akin to saying that auditors are the reason for the current situation, which, is something that I haven't read anywhere – in fact, I've read the exact opposite, that auditors are not involved.

And besides, you, and I, and all the readers know that Republicans DON'T regulate; the only reason Bush passed Sarbanes-Oxley was because of OUTRAGE on the behalf of everyone in the country, and because Congress HAD to. We also all know that Bush was fine to let it all slide b/c his good buddies were the ones in charge over at Enron…

It's too bad this site is completely partisan; as a writer, you would look much more intelligent if you left out the partisan ranting, and focused on the only decent paragraph in your entire piece: "It would be nice, once the immediate crisis is addressed, if Congress took a considered look at this regulatory contraption. Undoubtedly there are some parts that aren’t working well", because I'm sure that is something on which we can all agree. Unfortunately, throwing stones without any suggestions for fixing the situation doesn't help anyone at all.

Tom V is right, the rating agencies played a role in this mess as well. One problem is that the effective government seal of approval on the three leading rating agencies may have induced — or allowed — some to put excessive reliance on the agencies' ratings.

"Washington" is technically correct, PCAOB regulates auditors, but publicly-traded companies are required to be audited to PCAOB standards. So the PCAOB rules affect those companies directly.

As for "jjb's" point about blaming auditors: its not the auditors, its the government-mandated audit rules that clearly played a role in this crisis. This has been written about widely. See JD Foster's web memo discussing revising the "mark-to-market" accounting rule at: http://www.heritage.org/Research/Economy/wm2075.c…

No Bail Out!!!!!, I've been bailing out WALL Street, Fanny May, FREDDY MAX,ETC. as a tax payer. Enough is enough. I'd rather see the whole thing go down the darain and start all over for this Nation. Most of the greedy Congress and the Senate as well as the Wall Street, need to go home and find another job. I am tired of playing into their hands and have them take another cent from me as a tax payer and I believe I am not alone. Most of the Senate and Congress have had years to put us into this finacial break down while we have been feeding them and their lobbyist, and CEO's. It is my opinion to have them all arrested and locked up. America??? let's clean house and start all over. Walk on to WASHINGTON and show them we mean business this week-end while they are being served cocktails while they are getting drunk on putting us deeper in the whole. Both Parties have been drunk for along time, and the only intervention we as American can do is to sober these men and women up by replacing them for their greed.

I think that the government should not approve the bail out. People and companies need to start taking responsibility for their own actions. Instead, the government should use the 700B, if needed, to help the many inocent people affected by poor decisions made in Wall Street.

Where the flaws are articulated in detail unlike anything you see on the news, such that you can understand them and so the workings are not obfuscated with complexity. A detail solution is provided to fix the foundation, which everyone else speaking about the problem seems to lack.

Many people only see the appearances they do not see the fundamental flaw in the system itself. The bailout should go directly to the homeowners or to stimulate the economy so they can pay their mortgages.

Mr. Mason – the PCAOB does not set accounting rules. That's the job of the Financial Accounting Standards Board (FASB). So when you reference "mark to market" accounting in your response to jjb, I presume you are referring to FAS 157, which the FASB promulgated – not the PCAOB. The PCAOB is now in charge of what was formerly known as Generally Accepted Auditing Standards, but again, they have no say in the writing or interpretation of accounting rules.

You should do some research before you write an article. In fact, don't worry about research – just go to the website of the entities you slam to get an understanding of what they actually do.

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